Company Valuation Under IFRS : Interpreting and Forecasting ...

Chapter Four – Key issues in accounting and their treatment under IFRS
Exhibit 4.24: Impact of capitalising lease
Issue Impact Comment
Net income
EBIT
Lower (early
years)
Higher
In contrast to the consistent nature of the net
income charge under operating leases, finance
leases make higher charges in the earlier years
of a lease and as the ‘principal’ is repaid the
charges comes down because the interest
element of the charge falls.
As a major part of the finance lease charge is
interest then we would expect EBIT to be higher
over all years. An exception to this might be if the
lessee charged very high levels of accelerated
depreciation but this would be very rare.
Debt:equity
Higher
We get extra debt on the balance sheet with
finance leases.
Return on equity
Return on
capital employed
Lower (early
years)
?
Net income is lower early in the lease period and
higher later in the lease period so this ratio will
first fall and then increase.
Capital employed is higher but so is operating
profit. Therefore the outcome here is a function of
the relative change in the numerator and
denominator.
EBIT/Interest ?
EBIT is higher but so is interest and they both
change by different amounts so again we need to
look at the numbers.
6.6 Building valuation models: What to do
All leases are a form of debt irrespective of the accounting treatment. Therefore
if a lease is accounted for as a capital lease then we have few problems with this
and no major adjustments are required, save for ensuring that the recognised
leasing obligation is included in the debt numbers deducted from EV to find the
equity value.
On the other hand, if operational lease accounting is used then important
adjustments are required if we are to restate operating leases onto a similar basis
as if the asset had either been acquired outright or leased under a finance lease:
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